With the end of the tax year looming, uncommitted savers have only two months left to decide whether to take advantage of the tax breaks that are available in individual savings accounts (Isas). These allow you to tuck away up to £7,000 a year in a range of assets including shares, bonds, cash and commercial property.

So what exactly are the Isa rules and what are the tax breaks?

Investment limits

You can put up to £7,000 a year into the stocks and shares component of a maxi-Isa. The money you don’t invest in shares can be placed in the cash component, with an annual limit of £3,000. Alternatively, you can put up to £4,000 in a shares mini-Isa and £3,000 in a cash mini-Isa.

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Tax breaks

All capital gains made within an Isa are entirely tax-free, as is all interest from cash Isas. Investors in bonds also suffer no income tax on their interest payments because they are able to claim back the 20 per cent tax that has been deducted at source.

Share investors fare less well. Dividends effectively suffer tax whether paid inside or outside an Isa. So non-taxpayers and basic-rate taxpayers are no better off than they would be outside an Isa.

However, John Whiting, of PricewaterhouseCoopers, the accountant, says there is no further amount to pay if you are a higher-rate taxpayer as there would be outside an Isa.

Cash Isas

The Isa manager, normally a bank or building society, will put your money in the account you have chosen.

Interest, which is tax-free, is usually paid annually. Isas were originally intended to allow savers instant access to their money. However, some banks and building societies operate notice periods on their cash Isas, ranging from thirty days to five years, with penalties for early withdrawal.

A number also impose a penalty on those transferring their cash Isas elsewhere. This can be anything from a fixed sum of £30 to as much as 180 days’ loss of interest. Anna Bowes, of AWD Chase de Vere, the independent financial adviser, says: “It is worth shopping around for the best deal as interest rates vary greatly.”

Stocks and shares Isas

These come in varying levels of complexity. The common element is that each investor has to sign up with an Isa manager, such as a stockbroker or fund group, which will administer the Isa plan. Those taking out a maxi-Isa can appoint only one manager, but those taking the mini-Isa route can have different managers for their shares and cash.

At its simplest, an individual could buy a single fund from a fund manager, which would also provide the Isa wrapper.

A sophisticated investor may, however, opt to take the DIY route, opening a self-select Isa with a bank or broker but making his or her own investment decisions. This would typically involve purchasing a portfolio of shares, investment trusts or unit trusts, or a combination of all three, depending on what was permitted by the Isa manager.

Those opting for the fund route could use a funds supermarket or discount broker for easy access to a wide range of funds at a reduced cost.

Between these two extremes are the many investors who seek guidance from independent financial advisers before making their purchases. Many advisers assemble a portfolio of funds from a number of financial groups and they, too, often use a funds supermarket to buy and sell them.

Charges

There are normally no charges on a cash Isa. A single fund in a shares Isa may escape extra charges over and above those levied on the fund itself. However, on a self-select Isa, there would normally be an initial setting-up charge, plus an annual administration charge to cover the cost of collecting the dividends and producing regular statements to the client. There would also be the transaction costs of buying and selling shares and funds and the normal charges levied on unit and investment trusts.

CASE STUDY TO THE MAX

MARTIN GRAVER opened his first Isa only two months ago. The 42-year-old IT manager from Cheshunt, Hertfordshire, has put £6,000 into an M&G Maxi Isa and is using the money to invest in the M&G Global Basics fund.

Mr Graver, pictured with his partner, Jayne, and their three children, says: “I picked the fund because I was looking for long-term growth and it had a good long-term track record. I recently cashed in an endowment policy that was not doing well and used the proceeds to invest in the fund.

“In ten to fifteen years’ time we may use the money that has built up to pay off part of our mortgage, or we may switch to an income fund to provide us with additional income as we move towards retirement.”

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